A limited liability corporation (LLC) is a hybrid legal entity that combines the tax benefits of sole proprietorships and partnerships with the liability protection of corporations.
While an LLC does provide significant protections for business owners, the protection offered is not complete. If you are considering forming an LLC, you should take the following five aspects of liability protection into account:
1. Personal liability for the LLC’s debts
The most powerful protection an LLC offers is that it generally shields owners from liability for the debts of the LLC. In a sole proprietorship, if your business becomes insolvent or ceases to operate, you may be liable for all of the debts of your business.
This means that creditors could seize your personal assets, including your bank accounts, vehicles and home to satisfy the debts of your business. With an LLC, creditors of the LLC can only pursue the assets of the LLC and not the assets of the owners. However, this protection may not apply in cases where you have personally guaranteed debt.
2. Personal liability for the actions of co-owners and employees
If your business has more than one owner and one of the other owners becomes liable for damages due to their negligence or misconduct in the course of operating the business, they may be held jointly liable with the LLC, but creditors will not be able to pursue your personal assets if you were not involved in the wrongdoing.
This also applies to damages caused by the actions of your employees.
3. LLC’s liability for personal debts
The LLC structure provides many protections for business owners from the liability of the LLC, but it also protects your business from being dissolved by creditors due to the personal debts of the owners. In most cases, creditors can not seize the assets of an LLC to satisfy the personal debts of owners.
However, in some states creditors may be allowed to obtain a charging order, foreclose on an owner’s interest share or get a court order to have the LLC dissolved so that it’s assets can be sold off and used to pay creditors. It may be wise to consult with an attorney to determine which of these remedies are available to creditors in your state.
4. Personal liability for your actions
An LLC will generally not protect you from liability for your actions. If you cause damages due to your negligence, malpractice or other wrongdoing in the course of operating your business, both you and the LLC can be held liable for those damages.
This means that both the assets of your business and your personal assets can be seized to satisfy any judgments against you.
5. Piercing the corporate veil
In certain circumstances, courts may choose to ignore the liability protections afforded when you start an llc. This is called “piercing the corporate veil.” Courts generally do not like to pierce the veil but may choose to do so when attempting to force a corporation to comply with a government program, when a business has been found guilty of manipulating bankruptcy laws or committing other types of fraud when businesses have deliberately maintained low levels of capital that are insufficient to pay employees or shareholders and in situations where owners have not sufficiently separated their personal affairs from the affairs of the business.
When the corporate veil is pierced, any owners or shareholders found personally liable for the wrongdoings of the business can be held liable for any judgments against the business.
Forming an LLC does not provide you with complete protection from liability incurred by your business. However, it does have some significant advantages that are worth considering. It may be a good idea to consult with an expert before determining if this business structure is right for you.
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